Ind AS Technical
Facilitation Group (ITFG) of Ind AS Implementation Committee has been constituted
for providing clarifications on timely basis on various issues related to the
applicability and /or implementation of Ind AS under the Companies (Indian
Accounting Standards) Rules, 2015, and other amendments finalised and notified
till March 2019, raised by preparers, users and other stakeholders. Ind AS
Technical Facilitation Group (ITFG) considered some issues received from
members and decided to issue following clarifications1 on October
14, 2019:
Issue 1:
Ind AS 116, Leases, is applicable for annual
reporting periods beginning on or after April 1, 2019. Entity X has applied Ind
AS 116 using modified retrospective approach, under which the cumulative effect
of initial application is recognised in retained earnings as on April 1, 2019.
Entity X is in the business
of power generation and transmission and has power transmission licence for a
period of 30 years and intends to stay in the business for at least the
aforesaid period of 30 years. Entity X has entered into following lease
arrangements:
(a)
Lease 1
During the year 2015, Entity
X (lessee) entered into a lease arrangement with Entity Y (lessor), a
government-owned railway operator for an overhead line facility across the
railway track for a period of 10 years. Entity X paid ‘way leave’ charge to
Entity Y for the right of way in advance for the entire period of 10 years. As
per the contractual terms, Entity X has no tenancy or right or interest in the
land.
As per the past practice followed
by Entity Y in respect of its other similar leases, it is likely that the
contract will be renewed for another ten year at the expiry of its current
term.
The following are
some of the principal terms of agreement.
(i) Either party shall be at liberty to
put an end to the arrangement by giving one- month previous notice in writing
to that effect. In the event of such a notice being given by Entity Y, Entity X
shall have no claim for any compensation whatsoever.
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1 Clarifications given or views expressed by the Ind AS Technical
Facilitation Group (ITFG) represent the views of the ITFG and are not
necessarily the views of the Ind AS Implementation Committee or the Council of
the Institute. The clarifications/views are based on the accounting principles
as on the date the Group finalises the particular clarification. The date of
finalisation of this Bulletin is October 14, 2019. The clarification must,
therefore, be read in the light of any amendments and/or other developments
subsequent to the issuance of clarifications by the ITFG. The clarifications
given are only for the accounting purpose. The commercial substance of the
transaction and other legal and regulatory aspects has not been considered and
may have to be evaluated on case to case basis.
(ii) Entity Y reserves full rights to enter upon pass through or use the
land at any time without any notice to Entity
X.
(iii) In case Entity Y gives the notice,
Entity X shall at its own cost remove under the supervision of Entity Y the
transmission line and shall restore the railway land to its original condition to the satisfaction of
the Entity Y in all respects.
(iv) Neither Entity X nor its employees
or agents shall at any time enter upon the railway land or within railway
limits for any purpose whatsoever in connection
with the said transmission line facility without the previous consent in
writing of Entity Y.
(v) Entity X shall not transfer or
sublet the rights granted by the way leave facility and the benefit of the
facility shall be restricted to it only.
(vi) Entity X shall execute the work as
per plan approved by Entity Y and as per specification of materials laid down
by Entity Y from time to time and strictly under supervision of Entity Y’s representatives.
(vii) Entity X shall use the facility
granted only for the purpose for which it has been granted (i.e. for
transmission line) and without conferring upon it any right of possession or
occupation of land and without in any way affecting Entity Y’s title,
possession, control and use of the land.
LEASE 2:
A part of the transmission
line also passes through private land held by Entity Z. During the year 2015,
Entity X (lessee) entered into a lease agreement with Entity Z (lessor) for a
period of 12 months for overhead facility. Since the year 2015, the contract
has been renewed every year for a further period of one year at a time.
The following are some of the principal terms of
agreement.
(i)
The lease can be
renewed or cancelled with the mutual consent of both the parties.
(ii) Either party shall be at liberty to
put an end to the arrangement by giving one- month previous notice in writing
to that effect and in the event of such a notice neither of the party shall
have any claim for any compensation whatsoever.
(iii)
Entity
X shall not transfer or sublet the rights granted by Entity Z and the benefit
of the facility shall be restricted to it only.
As per the past practice, it
is likely that the contract will be renewed for another one year at the expiry
of its current term. The lease agreement does not provide any purchase option
in respect of the leased asset to the lessee.
(c) LEASE 3:
In year 2016, Entity X enters into
a lease agreement with a warehouse for an initial non- cancellable period of
one year. The lease can be renewed for a further period of one year with the
mutual consent of both the parties. There is no penalty if the lessee and the
lessor do not agree. Since 2016, the contract has been renewed every year for a
further period of one year at a time.
As per the past practice, it
is likely that the contract will be renewed for another one year at the expiry
of its current term. The lease agreement does not provide any purchase option
in respect of the leased asset to the lessee.
Entity X is reasonably certain to
continue Lease 1 and Lease 2 till the validity of transmission licence, i.e. 30
years since shifting of transmission lines will affect its business adversely.
Further, in the past, Entity Y has given notice to lessees to shift
transmission lines from railway land only in a few rare and unusual cases.
Whether the recognition
exemption for short term leases as per paragraph 5 of Ind AS 116, Leases, is available to Entity X for
the above three leases?
Response:
(The analysis deals with the
issue of determination of lease term under Ind AS 116 and does not deal with
any other accounting aspect that may be relevant, e.g., application of
transitional provisions)
Paragraph 5 of
Ind AS 116, Leases, states the
following, inter alia:
“A lessee may elect not to apply the requirements in paragraphs 22- 49
to:
(a) short-term leases; and (b) ”
Ind
AS 116 (or ‘the Standard’) defines the terms ‘lease term’ and ‘short-term
lease’ as follows:
Lease
term
“The non-cancellable period for which a
lessee has the right to use an underlying asset, together with both:
(a) periods covered by an option to
extend the lease if the lessee is reasonably certain to exercise that option; and
(b) periods covered by an option to terminate
the lease if the lessee is reasonably certain not to exercise that option.”
Short-term
lease
“A lease that, at the commencement
date, has a lease term of 12 months or less. A lease that contains a purchase
option is not a short-term lease.”
Paragraph B34
of Ind AS 116 states the following, inter alia:
“In determining the lease
term and assessing the length of the non-cancellable period of a lease, an
entity shall apply the definition of a contract and determine the period for
which the contract is enforceable.”
The term
‘contract’ is defined in the standard as follows:
“An agreement between two or more
parties that creates enforceable rights and obligations.”
As per a combined reading of the above, in determining
the lease term (and therefore, in determining whether a lease is a short-term
lease), only the enforceable rights of the lessee to renew or extend the lease
beyond the non-cancellable period are taken into consideration. For example:
·
Where a lease agreement grants the
lessee a right (an option) to renew or extend the
lease beyond the non-cancellable period without the consent of the lessor, the lessee has the right to use the asset beyond the
non-cancellable period. Accordingly, the period covered by the lessee’s option
to renew or extend the lease is included in the lease term if the lessee is
reasonably certain to exercise that option.
·
In contrast, where a lease
agreement can be renewed or extended by the lessee beyond the non-cancellable period only with the consent of the lessor, the lessee does not have the right to use the asset beyond the non-cancellable period. By
definition, there is no contract beyond the non-cancellable period if there are
no enforceable rights and obligations existing between the lessee and lessor
beyond that term.
In view of the above, where a lease agreement (including
any addendum thereto or a side agreement) is entered into for a period of 12
months or less and does not grant a renewal or extension option to the lessee,
it qualifies as a short-term lease within the meaning of the standard (provided
it also does not grant a purchase option to the lessee). This is so even if
there is a past practice of the lease being renewed upon expiry for a further
one year at a time with the mutual consent of the lessee and the lessor.
Conversely, where a lease agreement grants a renewal or
extension option to the lessee, the lessee is required to determine whether it
is reasonably certain to extend the lease.
Paragraph 19 of
Ind AS 116 states the following inter alia-
“In assessing whether a
lessee is reasonably certain to exercise an option to extend a lease, or not to
exercise an option to terminate a lease, an entity shall consider all relevant
facts and circumstances that create an economic incentive for the lessee to
exercise the option to extend the
lease, or not to exercise the option to terminate the lease, as described in
paragraphs B37– B40.”
Further, paragraph B37 of Ind AS 116 states the following inter alia
“B37At the
commencement date, an entity assesses whether the lessee is reasonably certain
to exercise an option to extend the lease or to purchase the underlying asset,
or not to exercise an option to terminate the lease. The entity considers all
relevant facts and circumstances that create an economic incentive for the
lessee to exercise, or not to exercise, the option, including any expected
changes in facts and circumstances from the commencement date until the
exercise date of the option. Examples of factors to consider include, but are
not limited to:
(a) …...
(b) significant leasehold improvements
undertaken (or expected to be undertaken) over the term of the contract that
are expected to have significant economic benefit for the lessee when the
option to extend or terminate the lease, or to purchase the underlying asset,
becomes exercisable;
(c) costs relating to the termination of
the lease, such as negotiation costs, relocation costs, costs of identifying
another underlying asset suitable for the lessee’s needs, costs of integrating
a new asset into the lessee’s operations, or termination penalties and similar
costs, including costs associated with returning the underlying asset in a
contractually specified condition or to a contractually specified location;
(e) the importance of that underlying
asset to the lessee’s operations, considering, for example, whether the
underlying asset is a specialised asset, the location of the underlying asset
and the availability of suitable alternatives; and… ”
On the basis of the above requirements of Ind AS 116,
the lease term in respect of each of the leases described in the query would be
as follows.
Lease 1
As per the facts of the case, the lease covers a period
of 10 years. However, Entity X (or Entity Y) can terminate the lease by giving
one month’s prior notice. Determining the lease term, therefore, requires an
assessment as to whether, at lease commencement, there is an economic incentive
for Entity X to not exercise the option to terminate the lease prematurely.
This assessment needs to be made by Entity X by considering all relevant facts
and circumstances including any expected changes in facts and circumstances
during the 10-year period. However, the following factors prima facie suggest that at the commencement date, Entity X is not
likely to have an economic incentive to exercise the termination option.
·
Entity X expects to operate the
transmission line for 30 years. It, therefore, needs the right of way for a period of 30 years which is well in
excess of the 10-year period covered by the
lease.
·
In case Entity X wishes to relocate
the transmission line so that it crosses over the
railway track at a different location, in all likelihood, it will still
have to obtain the right of way from Entity Y (since in India railway tracks
and adjoining land are owned mostly by a single entity, viz. Indian Railways)
and it seems unlikely that the lease rentals for the alternative location would
be significantly lesser to justify the relocation.
·
It seems possible that Entity X may
not be able to have a complete transmission line
without crossing over the railway track. Even where this is technically
possible, the alternative route may involve a considerable increase in the
length of the transmission line and may therefore involve considerable
additional cost. Prima facie, any
savings to Entity X due to lower lease rentals (which are likely to be the
primary drivers behind any relocation decision) are likely to be significantly
less than the cost involved in relocation.
·
In case the premature termination
by Entity X would result in Entity Y forfeiting a significant part of
the advance lease rental payment, this would be an additional factor providing
economic incentive to Entity X to not terminate the lease prematurely.
It is noted that Entity Y is government-owned. While its
agreement with Entity X gives it a right to terminate the lease at any time, it
seems prima facie that this right is
meant to be exercised only in exceptional circumstances. At lease commencement,
there seems no economic incentive for Entity Y to terminate the lease
prematurely. In case another entity approaches Entity Y for the right of way,
it seems that it can provide the right of way at some distance from location of
transmission line of Entity X; it does not need to terminate its existing
arrangement with Entity X to provide right of way to another party.
The above factors prima
facie suggest that at lease commencement, it is reasonably certain that the
termination option will not be exercised. However, as mentioned earlier, the
final determination of the issue will have to be made by Entity X on the basis
of its detailed and in- depth knowledge of the facts and circumstances of the
case. In case Entity X concludes that it is reasonably certain at lease
commencement that the termination option would not be exercised, the lease term
would be 10 years and, consequently, the lease will not qualify as a ‘short
term lease’.
Lease 2 &
Lease 32
The lease agreement is for a period of 12 months. The
agreement does not grant a renewal or extension or purchase option to Entity X
(i.e., the renewal of lease requires mutual consent of Entity X and Entity Y
and is not at the option of Entity X only). Accordingly, the lease
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2 It may also be noted a similar issue (where the
renewal of lease requires mutual consent of lessor and lessee and is not at the
option of lessee only) was dealt in ITFG Clarification Bulletin 21 (Issue 1).
qualifies as a ‘short-term lease’, notwithstanding the
fact that in the past, upon expiry of each 12-month period, the lease has been
renewed for a further period of 12 months. Entity X can, therefore, avail the
exemption of not applying the lessee accounting model of the standard to the
lease and instead account for the lease as per paragraph 6 of the Standard.
Issue 2:
Entity Y (lessor) entered
into a lease agreement to provide on lease an office building to Entity X
(lessee) for a 5-year term commencing April 1, 2017. As per the lease
agreement, the lease rental for the first year was ₹ 5 lakh. The lease rental
for each subsequent year was to increase by 10% over the lease rental for the
immediately preceding year, e.g., the lease rental for the year 2018-19 was to
be ₹ 5,50,000, for the year 2019-20 to be ₹ 6,05,000, and so on. The scheduled
10% annual increase in lease rentals was in line with expected general
inflation to compensate for Y Limited’s expected inflationary cost increases.
The lease was classified by Y
Limited as an operating lease. Applying paragraph 50(b) of Ind AS 17, Leases, Entity Y recognised lease rental
income of ₹ 5,00,000 for the year 2017-18 and ₹ 5,50,000 for the year 2018-19.
In other words, Y Limited did not recognise the lease rental income on a
straight-line basis.
Ind AS 116, Leases, has become applicable for
accounting years commencing April 1, 2019.
Under Ind AS 116, is Y
Limited required to account for the lease rental income in respect of the
aforesaid lease in the same way as it did under Ind AS 17?
Response:
Ind AS 17
stated the following in respect of accounting for operating leases by a lessor:
“50 Lease income from
operating leases (excluding amounts for services
such as insurance and maintenance) shall be recognised in income on a
straight-line basis over the lease term, unless either:
(a) another systematic basis is more
representative of the time pattern in which use benefit derived from the leased
asset is diminished, even if the payments to the lessors are not on that basis;
or
(b) the payments to the lessor are
structured to increase in line with expected general inflation to compensate
for the lessor’s expected inflationary cost increases. If payments to the
lessor vary according to factors other than inflation, then this condition is
not met.”
Sub-paragraph (b) of paragraph 50 of Ind AS 17
represented a conscious departure (a carve- out) from the corresponding
Standard under International Financial Reporting Standards, viz., IAS 17, Leases, which required operating lease
rentals to be recognised by a lessor on a straight-line basis unless another
systematic basis was more representative of the time pattern
in which use benefit derived from the leased asset was
diminished, even if the payments to the lessors were not on that basis. Thus,
unlike IAS 17, Ind AS 17 did not require or permit scheduled lease rental
increases to be recognised on a straight-line basis over the lease term if
lease rentals were structured to increase in line with expected general
inflation to compensate for the lessor’s expected inflationary cost increases.
Instead, Ind AS 17 required such increases to be recognised in the respective
period of increase only.
Ind AS 116, which has replaced Ind AS 17 in respect of
accounting years commencing on or after April 1, 2019, states the following in
respect of accounting for operating leases by a lessor.
“81 A lessor shall recognise
lease payments from operating leases as income on either a straight-line basis
or another systematic basis. The lessor shall apply another systematic basis if
that basis is more representative of the pattern in which benefit from the use
of the underlying asset is diminished.”
It would be noted that Ind AS 116 does not carry forward
the carve out that Ind AS 17 made from IAS 17 and requires operating lease
rentals to be recognised on a straight-line basis (or on another systematic
basis if such other basis is more representative of the pattern in which
benefit from the use of the underlying asset is diminished).
In view of the above, in the given case under Ind AS
116, Y Limited is required to recognise operating lease rentals from the office
building given on lease on a straight-line basis over the lease term,
notwithstanding that the lease rentals are structured to increase in line with
expected general inflation to compensate for its expected inflationary cost
increases.
The resultant change in manner of recognition of
operating lease rentals by Y Limited represents a change in an accounting
policy which will need to be accounted for as per Ind AS 8, Accounting Policies, Changes in Accounting
Estimates and Errors, in the absence of specific transitional provisions in
Ind AS 116 dealing with the change.
Issue 3: ABC
Limited, a cement manufacturer has entered into a lease agreement with PQR
Limited for rights for the extraction of lime stone which is the principal raw
material for manufacture of cement.
Whether the rights for
extraction of lime stone are covered under the scope of Ind AS 106, Exploration for and Evaluation of Mineral
Resources? How should these rights be accounted for? In case rights are to
be accounted for as an intangible asset, should the amortisation be based on
the ‘lease term’ in terms of number of years or based on quantity of mineral
reserves?
Response:
The principal issue in the present case is to identify
the Ind AS which governs accounting for mining lease rights in question. In
this context, the following extracts from Ind AS 38,
Intangible Assets,
Ind AS 16, Property, Plant and Equipment,
Ind AS 116, Leases, and Ind AS 106, Exploration for and Evaluation of Mineral
Resources, are noteworthy.
Extracts from Ind AS 38
“2
This Standard shall be applied in accounting for intangible assets, except:
………..
(c) the recognition and measurement of
exploration and evaluation assets (see Ind AS 106, Exploration for and
Evaluation of Mineral Resources); and
(d) expenditure on the development and
extraction of minerals, oil, natural gas and similar non-regenerative resources.”
Extracts from Ind AS 16
3
This Standard does not apply to:
...............
(c)
the
recognition and measurement of exploration and evaluation assets (see Ind AS
106, Exploration for and Evaluation of Mineral
Resources).
(d)
mineral
rights and mineral reserves such as oil, natural gas and similar non-
regenerative resources.
Extracts from Ind AS 116
“2 An entity shall apply
this Standard to all leases, including leases of right-of-use assets in a sublease, except for:
(a leases to explore for or use minerals, oil,
natural gas and similar non- regenerative resources;
......................”
Extracts from Ind AS 106
Exploration for and evaluation of
mineral resources – “The search for mineral resources, including minerals, oil, natural gas
and similar non-regenerative resources after the entity has obtained legal
rights to explore in a specific area, as well as the determination of the
technical feasibility and commercial viability of extracting the mineral resource.”
“3 An entity shall apply
this Ind AS to exploration and evaluation expenditures that it incurs.”
“6
An entity shall not apply this Ind AS to expenditures incurred:
(a)
before the exploration for and evaluation of mineral resources, such as
expenditures incurred before the entity has obtained the legal rights to explore a
specific area.
(b) after the technical
feasibility and commercial viability of
extracting
a mineral resource are demonstrable.”
“17 An exploration and evaluation
asset shall no longer be classified as such when the technical feasibility and
commercial viability of extracting a mineral resource are demonstrable.
Exploration and evaluation assets shall be assessed for impairment, and any
impairment loss recognised, before reclassification.”
As per a combined reading of the above, the mining lease
rights under discussion qualify as an intangible asset to be accounted for as
per Ind AS 38 as explained in detail below:
·
The rights acquired are for the
extraction of lime stone which means that technical
feasibility and commercial viability of extracting the limestone has
already been established. Therefore, the present case does not fall under the
scope of Ind AS 106.
·
Ind AS 16 does not apply to mineral
rights and mineral reserves such as oil, natural
gas and similar non-regenerative resources. Leases to explore for or use
minerals, oil, natural gas and similar non-regenerative resources are also
excluded from the scope of Ind AS 116.
·
The mining lease rights under discussion qualify as
an intangible asset under Ind AS
38. The scope exclusions contained in paragraphs 2(c) and 2(d) do
not apply to these rights because
₋
these rights relate not to a mine
in exploration and evaluation stage but to a mine for which the technical
feasibility and commercial viability of extracting the limestone has already
been determined and hence the present case does not fall under the scope exclusion in paragraph 2(c) of Ind AS 38.
₋
the payment made (or to be made) by
the entity for obtaining the mining lease rights is neither expenditure on
‘development’ nor on ‘extraction’ of minerals or
other non-regenerative resources and hence does not fall under the scope
exclusion in paragraph 2(d) of Ind AS 38.
In view of the above, mining lease rights under
discussion should be accounted for under Ind AS 38.
As regards the manner of amortisation of the mining
rights (i.e., whether period-based or quanity-based), Ind AS 38 requires the
depreciable amount of an intangible asset with a finite useful life to be
allocated on a systematic basis over its useful life. The term ‘useful life’ is
defined as:
(a)
the period over which an asset is expected to be available for use by an entity; or
(b)
the number of
production or similar units expected to be
obtained from the asset by an
entity.
Ind AS 38 requires that the amortisation method used
shall reflect the pattern in which the asset’s future economic benefits are
expected to be consumed by the entity. If that pattern cannot be determined
reliably, the straight-line method shall be used. The Standard recognises that
a variety of amortisation methods can be used to allocate the depreciable
amount of an asset on a systematic basis over its useful life. These methods
include the straight-line method, the diminishing balance method and the units
of production method. The method used is selected on the basis of the expected
pattern of consumption of the expected future economic benefits embodied in the
asset and is applied consistently from period to period, unless there is a
change in the expected pattern of consumption of those future economic benefits.
Ind AS 38 also notes that in choosing an appropriate
amortisation method, an entity could determine the predominant limiting factor
that is inherent in the intangible asset. For example, the contract that sets
out the entity’s rights over its use of an intangible asset might specify the
entity’s use of the intangible asset as a predetermined number of years (i.e.
time), as a number of units produced or as a fixed total amount of revenue to
be generated. Identification of such a predominant limiting factor could serve
as the starting point for the identification of the appropriate basis of
amortisation, but another basis may be applied if it more closely reflects the
expected pattern of consumption of economic
benefits.
It would be noted from the above that selection of an
appropriate amortisation method for the mining lease requires consideration of
the exact facts and circumstances of the case. Therefore, this assessment will
need to be made by the entity itself in the light of its detailed and in-depth
knowledge of the facts and circumstances of its particular case.
Issue 4: ABC Limited is
a pharmaceutical company. As a part of its sales promotion activities, it
distributes gifts (mobile phones, decorative items and the like) along with its
product catalogues to doctors to encourage them to prescribe medicines
manufactured by it. No conditions are attached with the items distributed.
Would the distribution of gifts to
doctors be covered by Ind AS 115, Revenue
from Contracts with Customers? If not, how should the same be accounted for
by ABC Limited?
Response:
Paragraph 6 of Ind AS 115, Revenue from Contracts with Customers, states
as follows:
“6 An entity shall apply
this Standard to a contract (other than a contract listed in paragraph 5) only
if the counterparty to the contract is a customer. A customer is a party that
has contracted with an entity to obtain goods or services that are an output of
the entity’s ordinary activities in exchange for consideration……”
The term
‘contract’ is defined in Ind AS 115 as follows:
An
agreement between two or more parties that creates enforceable rights and
obligations. In the given case:
·
Gifts are
distributed by ABC Limited
to doctors as
a part of
its sales promotion
activities without there being an agreement between ABC Limited and
the doctors creating enforceable rights and obligations.
·
The doctors to whom gifts are
distributed are not ‘customers’ of ABC Limited – they have not contracted with
it to obtain goods or services in exchange for
consideration.
·
The items distributed as gifts are not an output of
ABC Limited’s ordinary activities.
In
view of the above, the distribution of gifts to doctors does not fall under the
scope of Ind AS 115.
Paragraph 5 of Ind AS 38, Intangible Assets, inter alia,
states that, “this Standard applies to, among other things, expenditure on
advertising, training, start-up, research and development activities”.
Paragraph 48 of Ind AS 38 states that internally generated goodwill shall not
be recognised as an asset. Paragraphs 63 and 64 of Ind AS 38 preclude an entity
from recognising internally generated brands, mastheads, publishing titles,
customer lists and items similar in substance as intangible assets on the basis
that expenditure on such internally generated items cannot be distinguished
from the cost of developing the business as a whole. Further, paragraphs 69 and
69A of Ind AS 38 state as follows:
“69 In some cases, expenditure is incurred
to provide future economic benefits to an entity, but
no intangible asset or other asset is acquired or created that can be recognised.
In the case of the supply of goods,
the entity recognises such expenditure as an expense when it has a right to access those
goods…… Other examples of expenditure that is recognised as an expense when it is incurred include
……
(c)
expenditure on advertising and promotional
activities (including mail order catalogues)…….”
“69A An
entity has a right to access goods when it owns them. Similarly, it has a right to access goods when they have been constructed by a supplier in accordance with
the terms of a supply contract and the entity could demand delivery of them in return for payment. Services are received when they are
performed by a supplier in accordance with a contract to
deliver them to the entity and
not when the entity uses them to
deliver another service, for example,
to deliver an advertisement to customers.”
Items acquired by ABC Limited to be distributed as gifts
as a part of sales promotion activities have no other purpose than to undertake
those activities. In other words, the only benefit of those items for ABC
Limited is to develop or create brands or customer relationships, which in turn
generate revenue. Paragraph 69 of Ind AS 38 requires an entity to
recognise expenditure on such items as an expense when
the entity has a right to access those goods. Paragraph 69A of Ind AS 38 states
that an entity has a right to access goods when it owns them, or otherwise has
a right to access them regardless of when it distributes the goods
In view of the above, ABC Limited should recognise the
expenditure on items to be distributed as gifts as an expense when it owns
those items, or otherwise has a right to access them, regardless of when it
distributes the items to doctors.
Issue 5: ABC
Limited merges into PQR Limited and the merger meets the definition of a
‘common control business combination’ as per Appendix C of Ind AS 103, Business Combination. As per the scheme
approved by the competent authority (National Company Law Tribunal, or NCLT) in
this regard, the appointed date for the merger is April 1, 2016. The NCLT’s
order approving the scheme was received on March 27, 2019.
PQR Limited has been applying Ind
ASs w.e.f. financial year beginning April 1, 2016. Thus, its date of transition
to Ind ASs (within the meaning of this term under Ind AS 101, First-time Adoption of Indian Accounting
Standards) is April 1, 2015.
Whether the
comparatives are required be given only for one year (i.e. for the year ended
on March 31, 2018) or whether a third balance sheet as of April 01, 2017 is
also required to be presented as part of financial statements of PQR Limited
for the year ended March 31, 2019?
Response:
Paragraph
10 of Ind AS 1, Presentation of Financial
Statements states as follows: “10 A
complete set of financial statements comprises:
(a) …..
(f) a balance sheet as at the beginning
of the preceding period when an entity applies an accounting policy
retrospectively or makes a retrospective restatement of items in its financial
statements, or when it reclassifies items in its financial statements in
accordance with paragraphs 40A–40D.”
In the given case, there is change in composition of the
reporting entity and not the retrospective application of an accounting policy,
retrospective restatement or retrospective reclassification.
Further,
paragraph 9 of Appendix C of Ind AS 103 states as follows:
“9 The pooling of interest method is considered
to involve the following: (i)….
(iii)
The financial information in the financial statements in respect of prior
periods should be restated as if the business combination had occurred from the
beginning of the preceding period in the financial statements, irrespective of
the actual date of the combination. However, if business combination had
occurred after that date, the prior period information shall be restated only
from that date.”
Ind AS 103 Appendix C requires only restatement of
comparative information and does not require a third balance sheet at the
beginning of the preceding period (unless the beginning of the preceding period
also happens to be the date of transition to Ind ASs in a particular case).
In accordance with the above requirements, the financial
statements are required to be restated for the year 2018-19 with comparative
for 2017-18.
Issue 6: Entity
B and Entity C are both under the control of Entity A. Entity B and Entity C filed
a scheme of arrangement with NCLT in the year 2017. Pursuant to the scheme, one
of the business divisions of Entity B was to be demerged and merged with Entity
C. The scheme was approved by the NCLT in June 2019, i.e., before the approval (by the Board of Directors) of
the financial statements for the year ended March 31, 2019. The appointed date
of merger as per the scheme April 1, 2018. Both entities, Entity B and Entity C
will prepare their first Ind AS financial statements for year ended March 31, 2018.
(i)
Whether
the financials of the Entity C for the financial year 2017-18 should be
restated in accordance with paragraph 9(iii) of Appendix C to Ind AS 103, Business Combination, considering that
the appointed date of the merger is April 1,
2018?
(ii)
Whether
the financials of Entity B (demerged entity) for the financial year 2017-18
should be restated, considering that Ind AS 103 is not applicable to the
demerged entity.
Response:
Paragraph 9 of Appendix C of Ind AS 103 states as follows:
“9 The pooling
of interest method is considered to involve the following: (i)….
(iii)
The
financial information in the financial statements in respect of prior periods
should be restated as if the business combination had occurred from the
beginning of the preceding period in the financial statements, irrespective of
the actual date of the combination. However, if business combination had
occurred after that date, the prior period information shall be restated only
from that date.”
In accordance with paragraph 9(iii) above, C Limited is
required to prepare its financial statements (including comparative information
presented therein) for the year ended March 31, 2019 as if the transfer of the
division had occurred from the beginning of the comparative
period presented in the financial statements for the
year ended 31 March 2019 i.e., April 1, 2017, notwithstanding the appointed
date of 1 April 2018 specified in the scheme.
Appendix C to Ind AS 103 lay down accounting for a
common control business combination only from the perspective of the
transferee. Consequently, its requirement for restatement of comparative
information also applies only to the transferee and not the transferor.
However, Entity B needs to consider whether any disclosures are required to be
made by it pursuant to the requirements of Ind AS 105, Non-current Assets Held for Sale and Discontinued Operations.
Issue 7: Entity
A, which prepares its financial statements as per Ind ASs obtained a loan from one of its directors during the
year 2015-16 which is still outstanding as at the end of year 2018-19. The loan
is not related to a qualifying asset and is repayable on demand. In previous
years, the interest was charged and paid to the directors. However, in respect
of interest on the loan for the year, 2018-19, a waiver was obtained from the
director without amendment of the loan agreement.
What should be the accounting
treatment of interest on the loan for the year 2018-19? Response:
(It
is assumed that that the director is not a shareholder and is not compensated
through remuneration for the interest waived.)
Paragraph
15 of Ind AS 1, Presentation of Financial
Statements, states as follows: “Financial
statements shall present
a true and fair view of the financial position, financial
performance and cash flows of an
entity. Presentation of true and fair view requires the faithful representation
of the effects of transactions, other events and conditions in accordance with
the definitions and recognition criteria for assets, liabilities, income and
expenses set out in the Framework. The application of Ind ASs, with additional
disclosure when necessary, is presumed to result in financial statements that
present a true and fair view.”
As per the facts of the case, Entity A is contractually
required to pay interest on the loan obtained by it from a director but the
same is waived by the director. As per paragraph 15 of Ind AS 1 stated above,
presentation of true and fair view requires the faithful representation of the
effects of transactions, other events and conditions. To achieve fair
presentation, it is appropriate that Entity A recognises its contractual
obligation for payment of interest as well as the waiver thereof by recognising
interest as an expense and the waiver thereof as an item of income. The matter
may also require disclosure as part of related party disclosures.
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